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Corporate Taxes: Advantages of a Territorial System

January 03, 2012

Produced by the Tax Foundation in Washington, D.C.

Script: Whether you know it or not, there's a tax barrier to bringing money into the U.S. It sounds strange, I know, but here's how it works. Say you're a U.S. company, and you open up an office overseas to serve British customers. Any money you make in Great Britain is taxed at Great Britain's tax rate, in this case, 25%. And as long as you leave that money in Great Britain, you won't have to pay any more taxes on it.

But say you want to bring that money back into the United States. Well, before you can bring that money back to invest in the U.S., you have to pay the difference between England's tax rate and the U.S. tax rate, and since the U.S. has the second-highest corporate tax rate in the world, no matter where you're bringing the money from, you're likely to have to pay an extra tax to bring it home to the U.S. In this case, you'd have to pay the difference between England's tax rate of 25% and the U.S. tax rate of 35%. It's almost like paying a toll to bring money to the U.S. And that discourages investment in America, year after year. That's money that should be in America -- there shouldn't be a penalty for bringing it home.

So, what can we do? Well, in addition to reducing our 35% tax rate, the answer may lie in what almost every other developed country has already done. It's called a territorial tax system. In a territorial system, companies only pay taxes on the profits earned here in America. Profits earned in markets outside the United States can be brought home and invested here year after year, without that added penalty. If you want to bring that money back for jobs, expansion, research, development, whatever -- you don't have to pay any additional tax. And that's not all. Right now, U.S. companies are at a disadvantage when they compete for business abroad. Since their international competitors don't have to pay a toll to move their money back home, the U.S. companies have higher costs in everything they do. But switching to a territorial tax system would create a level playing field, letting us win more business around the world. And that's good for our workers here at home. And the increased money invested in the U.S. helps create American jobs and helps grow American businesses. Just a couple ways switching to a territorial tax system can help the American economy.

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